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Target Cleans House

The retailer unloads its Mervyn's stores, and now has some extra spending money.

Target(NYSE:TGT) has agreed to sell its Mervyn's department store chain in exchange for $1.65 billion in cash as the discount retailer continues its drive to shed less profitable units and focus on its core business.

The sale, which involves 257 locations in several states in the west and south, comes just a month after Target announced it would unload its Marshall Field's stores to May Department Stores(NYSE:MAY). Target also agreed to sell Mervyn's credit card receivables to General Electric's(NYSE:GE) GE Consumer Finance unit for $475 million. All told, the transactions will amount to a $270 million pre-tax gain for Target in the third quarter.

The sale of Mervyn's has been in the works for some time and will likely be cheered by investors. To see why, just look at the firm's latest sales figures: Target's name brand same-store sales rose an anemic 2.2% in a difficult June, while Mervyn's showed just a 0.2% gain.

The question now becomes, what will Target do with its new cash? The company had $622 million in cash and equivalents on hand as of May 1 and $9.6 billion in long-term debt. The official line is that the proceeds will go to a $3-billion-dollar buyback of stock and to reduce debt levels. Another possibility, though, is that the extra money could lead to an acquisition. Talk has been swirling the last few weeks that Target is mulling the purchase of Canadian discount retailer Zeller's.

The acquisition may be worth considering, since the retailer does appear to need room to grow. The company expects to have about 1,300 stores in the U.S. by the end of this fiscal year, and it seems it will eventually reach the limit of its potential domestically. Further, updates of existing stores will only take sales so far. Through a Zeller's purchase, Target would immediately gain a major foothold in Canada, where competitor Wal-Mart(NYSE:WMT) is already enjoying solid results. For Target, a move into Canada could be an easy way to keep profits heading north.

Fool contributor Brian Gorman is a freelance writer in Chicago. He does not own shares of any companies mentioned in this article.